In October 2020, I concluded that shares of Vertex (NASDAQ:VRTX) looked cheap, yet I had a few concerns at the time. The pharmaceutical company has seen some setbacks in the pipeline, yet it remains an impressive growth story.
After all, the company has seen solid growth, it was very profitable, as it controlled the “CF” market, a situation which is still the case today.
Late in 2020, shares of Vertex sold-off overnight from $300 to $220 per share in response to disappointing research results, thereby wiping out the entire gains for the year so far at the time. Despite the decent risk-reward based on the operating performance at the time, I feared a value-trap scenario.
Shares sold off after Vertex decided to stop the Phase 2 trials of VX-814 on the back of elevated liver enzyme levels being observed, leaving the company to conclude that it was best to halt the study, as a new structure should start in the first half of 2021.
Founded in 1989, Vertex has been struggling for a long time as its luck changed in 2012 when the FDA approved KALYDECO for the treatment of cystic fibrosis. This life-threatening disease affects one in every 75,000 people as a result of defective genes. The problem is that there were 2,000 mutations of this gene as KALYDECO addressed the G551D mutation, a market estimated at just 4,000 patients in the US, Europe and Asia,
ORKAMBI was approved in 2015, addressing the F508del mutation, much more prevalent with a patient market of 20,000. This allowed the company to post $2.5 billion in sales in 2017, as the company managed to report small profits in the meantime. With the company addressing 31,000 patients of the 75,000 target population (after approval came in for some other mutations), the cost of the treatment was high and profitability was very limited.
Following further approvals the company grew sales to more than $3 billion in 2018 as operating profits rose sharply, with more label expansions coming in, as revenues surpassed the $4 billion mark in 2019 as the company guided for 2020 sales to surpass the $5 billion mark, all derived from CF drugs.
The 260 million shares outstanding rose to $300 on the back of this operating momentum, for a $78 billion equity valuation, explained by the profitable and growing operations, as well as a $5.5 billion net cash position, although multiples were very demanding by all means. With shares falling to $200 overnight at the time, valuations were rapidly getting more compelling, yet the issue was that the company was still a one-trick pony on the CF market, creating real binary risks with companies like Ionis Pharmaceuticals (IONS) and Arrowhead Pharmaceuticals (ARWR) looking to enter the market as well.
The situation of a monopoly, based on a limited market segment, with prices being sky-high, made me a bit cautious as regulatory and consumer scrutiny about prices has always been a factor.
In the nearly two-year time period since late 2020, shares have fallen to just below the $200 mark by the end of 2021 as shares have seen a meaningful recovery in 2022, now trading at $275 per share.
Early in 2021, Vertex posted its 2020 results with revenues up 55% to $6.20 billion as net earnings were posted at $2.7 billion, just over $10 per share as net cash balances have risen to $6.6 billion. The company further guided for 2021 revenues to come in at a midpoint of $6.8 billion.
As it turned out, 2021 revenues rose far sharper than anticipated, with sales up 22% to $7.57 billion as adjusted earnings rose in tandem to $3.4 billion. Adjusted earnings came in at $13 per share, but excluding stock-based compensation, they ran around $11.50 per share. In the meantime, net cash balances improved further to $7.5 billion, equivalent to roughly $30 per share.
In May, the company posted its first quarter results as the company maintained the midpoint of the full year sales guidance at $8.5 billion, all while cash balances surpassed the $8 billion mark. The company kept investing in other areas, including type 1 diabetes, liver diseases, among others, hoping to start diversifying the business.
The company announced a bolt-on deal in July as it will acquire ViaCyte in a $320 million cash deal. ViaCyte is a privately owned biotechnology company that focuses on novel stem cell-derived cell replacement therapies for type 1 diabetes. By August, second quarter results reported quarterly revenues of $2.20 billion, as the company hiked the midpoint of the full year sales guidance to $8.7 billion.
The 256 million shares have risen to $275 on the back of the continuation of very profitable growth, pushing up the equity valuation to $70 billion here, or just about $61 billion if we exclude a more than $9 billion net cash position. Right now the adjusted earnings trend at $14 per share, and likely around $12 per share adjusted for stock-based compensation, for a 20 times realistic earnings multiple.
The truth is that the performance of the stock year to date is quite impressive. Over the last couple of years, Vertex has continued to show very solid and profitable growth. With the growing cash balances, valuations now come in at 20 times realistic earnings, pretty much the same as was the case at $200 late in 2020.
In the meantime, the company has seen growth, but it remains a one-trick pony as the dependency has not yet come down. After all, no products outside CF have been approved just yet, yet we see progress on the pipeline on various fronts. In the meantime shares have risen some 50% since late 2021, all while the market has been struggling (that is obviously an understatement) as this relative outperformance in recent times makes me a bit cautious.